The FOMC released its latest statement on monetary policy. As expected, the Fed is hiking its target for the federal funds rate by 50 basis points, or 0.50%. This is the biggest rate hike the Fed has done since the year 2000.
The federal funds rate will now be in a range of 0.75% to 1.00%. This will likely have an impact on short-term rates and should lead to a flattening of the yield curve.
In his press conference, Jerome Powell said that a 75 basis point increase is not something that the committee is “actively considering.” The stock market bulls liked the sound of this, and stocks exploded higher on this news.
I’ve long said that there is a problem when one person from the government/ central bank can speak words that wildly drive stock prices higher or lower. In an economy of 330 million people, and more if you include the globe, does is make sense that one person or one committee has this much power to control a massive economy?
Perhaps the bigger news coming from the Fed, that receives far less attention than the rate hikes, is that the Fed will start to reduce its bloated balance sheet. It nearly peaked at $9 trillion. It helps to remember that it was around $4.2 trillion in March 2020. It was under $1 trillion before September 2008.
In the Implementation Note, it says that the Fed will start to reduce its balance sheet in June by $47.5 billion per month. This will mean selling off (or not rolling over maturing debt) $30 billion per month in Treasury securities and $17.5 billion in mortgage securities.
According to its “Plans for Reducing the Size of the Federal Reserve’s Balance Sheet”, these sell-off amounts will double after three months. This means that in September 2022, the Fed will be reducing its balance sheet by $95 billion per month, if it sticks with the plan.
That is a big “if”. The stock market liked the news that the Fed isn’t actively considering a hike of 75 basis points at one time in the near future. That bullish sentiment will wear off quickly.
The Everything Bubble is built on loose money and low interest rates from the Fed. Now that is being taken away to combat the price inflation, which is a consequence of its previous policies.
The market has already been extremely rocky this year. Interest rates for mortgages have already gone up. You can read all of the statistics there are, but the fact is that most of middle class America is hurting. They are getting 8.5% (or more) price hikes with many things they buy, but they aren’t seeing an 8.5% increase in wages.
The pain is already here, and it will get worse at some time. It is a consequence of the Fed’s previous policies. They can try to blame Russia or whomever, but it was the easy money and loose interest rates that gave us the unsustainable boom.
The bust is unavoidable at this point. The Fed can try to delay it as it has in the past, but that will only make it worse down the line. The severe misallocations will be exposed. The correction will happen at some point. Even if the Fed doesn’t allow a “correction”, there will be severe consequences.
We should expect to see short-term rates go higher in the coming months. The yield curve is likely to flatten more. If we get an inverted yield curve, then it will really be time to take cover.